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Home Publications Blogs Beat the Press Low Inflation Is the Same Sort of Problem as Deflation

Low Inflation Is the Same Sort of Problem as Deflation

Saturday, 08 June 2013 08:12

I'm glad that Paul Krugman made this point clearly in his blog today. I wish that he had done it five years ago. I made this point repeatedly (here, here, and here).

It is remarkable how many economics reporters and even economists seem to think that something magic happens when inflation crosses the zero line and turns negative. This is absurd on its face. The inflation rate is an aggregate of millions of different price changes (quality adjusted). If it is near zero then a very large number of the changes will already be negative. When it falls below zero it simply means that the negative share is somewhat higher. How can that be a qualitatively different economic universe? 

Comments (9)Add Comment
Streetlight Drunks Just Keep Looking for the Car Keys
written by Last Mover, June 08, 2013 10:12
The zero-sum morons keep reducing inflation/deflation to a bright line test in order to create certainty in a world too complicated for them to understand.

When drunks look under the streetlight for lost car keys because the light is better there, they have an excuse because they're drunk.

The zero-sum morons don't have an excuse to narrow the search to beneath the streetlight when proclaiming they found the car keys, a silver bullet that requires no understanding of how measures of central tendency work at all, none whatsoever.
Let's Get Wonky
written by Ellen1910, June 08, 2013 12:22
The issue isn't some silly ("absurd") deflation/inflation brightline. The issue -- according to Krugman -- is the location of the IS line. So assuming only monetary policy is available --

What is the real interest rate (presumably, strongly negative) required to achieve full employment. Since the fed funds rate can't go lower than zero -- and the current negative 2% real rate (2% inflation less ZIRP) isn't adequate, how much inflation do we need?

And how would the Fed go about generating that inflation? It hasn't been able to do so thus far.

written by skeptonomist, June 08, 2013 3:45
"Low inflation" is not the problem. The problem is low demand and low wages. Inflation is caused by shortages of consumer goods or critical commodities (e.g. oil) and/or labor shortages leading to high wages - these are the historical facts. The factors which cause inflation have been produced in the past by government spending, especially in wars. Baker and Krugman seem to think that central banks can magically reverse the causation, but have not provided any plausible mechanism.
what causes inflation?
written by David, June 08, 2013 4:36
skeptonomist, if you read the Krugman post he clearly states that low inflation can be problematic precisely because of low demand and of downward nominal wage rigidity (and to a lesser extent d.n. price rigidity). So as far as wages go, we're stuck, because clearly they are too low from the point of view of income inequality, but they would need to be even lower to solve the employment problem. The thing you are missing, skeptonomist, is that this is low inflation near the zero lower bound, in conjunction with stagnant wages combined with downward rigidity of nominal wages. But if anybody takes some wage cuts, I suggest the CEOs and Boards of all the investment banks take the haircut first (and a couple have).

On a related noted, Becker and Posner point out that Bernanke has been targeting unemployment rates rather than employment, which is not the same thing, and probably a bad thing. http://www.becker-posner-blog....ecker.html
written by watermelonpunch, June 09, 2013 8:07
@ David - I see the point of your comment.
But the link you posted leads to an article makes some pretty suspect innuendos including that unemployment compensation benefits CAUSE unemployment. *rolls eyes*
By that logic, doing away with unemployment benefits would actually somehow cause companies to suddenly have more jobs on offer. And that just doesn't add up.
As a result, I now would view everything on that blog as suspect.
written by RW (the other), June 09, 2013 9:32
Not five years maybe but not immediately recent either:

written by MacCruiskeen, June 09, 2013 9:48
Krugman has history on his side. We all remember the inflation-driven growth of the 1970s.
written by Calgacus, June 10, 2013 2:49
Skeptonomist: Quite right. I wonder why anybody would vote your remarks down.

Watermelonpunch: Right. Gary Becker & Richard Posner are not reliable people to go to for understanding economics or much anything else.
David: So as far as wages go, we're stuck, because clearly they are too low from the point of view of income inequality, but they would need to be even lower to solve the employment problem.

A lifetime after the General Theory ... and one still has to say that lowering wages will NOT solve the unemployment problem, and never has. Sigh.

I'd bet dollars to donuts that raising the minimum wage a modicum right now would decrease, not increase unemployment. See Marshall Auerback for argument for this assertion.

But it is really, really easy to solve the problem of unemployment for all time, in a very productive and beneficial way. Have the government employ people a la WPA- after all, the government is the ultimate cause of all unemployment, and the government is the only one that can cure the problem it itself creates. Result: Endless quasi-boom. Problem solved. The End.
Inflation and deflation need to balance out
written by Christopher Booth, June 18, 2013 1:09
It is essential that over time inflation and deflation balance out so that every century a dollar is worth the same as it was the previous century, so that now and forever a dollar bill will buy a gallon of milk and a loaf of bread. A good first step is to add a constitutional amendment which defines an ounce of gold as being worth $32, and an ounce of silver as being worth $1, so that neither can ever be changed.

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.